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  • Jennifer M Mueller-Phillips
    Spatial Competition in Local Audit Markets and the Fallout...
    research summary posted May 30, 2017 by Jennifer M Mueller-Phillips, tagged 01.0 Standard Setting, 01.06 Impact of PCAOB, 03.0 Auditor Selection and Auditor Changes, 11.0 Audit Quality and Quality Control, 11.11 Impact of Firm and External Inspection Programs 
    Title:
    Spatial Competition in Local Audit Markets and the Fallout on Deloitte from the 2007 PCAOB Censure
    Practical Implications:

    The results from this study demonstrate that product differentiation in the form of market leadership and industry specialization may not provide a firm the power to mitigate the adverse consequences of a PCAOB censure.

    Citation:

    Boone, J. P., I. K. Khurana, and K. K. Raman. 2017. Spatial Competition in Local Audit Markets and the Fallout on Deloitte from the 2007 PCAOB Censure. Auditing, A Journal of Practice and Theory 36 (21): 1-19.

    Keywords:
    PCAOB; Big 4 auditors; local audit markets; spatial competition
    Purpose of the Study:

    The 2007 PCAOB censure on Deloitte regarding a pharmaceutical client in California caused the firm to suffer both audit fee and client losses. The objective of the paper is to determine whether auditor market power in a local area overrides the audit quality issues resulting from a censure. Specifically, authors investigate the effects of the censure on Deloitte’s ability to retain existing clients (or, switching risk) and potential loss of audit fees. The initial assumption is that auditor-client alignment and auditor-closest-competitor distance can help create differentiation among the Big 4 and this would lead to lower audit fee and client losses for a particular metropolitan area. Researchers looked at specific market specialization and geographic areas to analyze the effects on Deloitte. 

    Design/Method/ Approach:

    The research evidence was collected from 2008-2010, the period after the censure. There were 65 local audit markets used within the sample. Each of these markets had a minimum of 6 to a maximum of 1,662 clients observed. Deloitte-client alignment for the individual local audit markets was based on Deloitte’s expertise in the client’s industry, measured according to whether Deloitte is the national leader in the industry (top fee earner), an industry specialist (significant fee earner), or a local audit market leader (top fee earner locally). Deloitte-closest-competitor distance measures Deloitte’s implied differentiation and reputation. It was calculated by comparing the distance between the firm’s fee market share and its closest competitor both at the national level and in the local market.

    Findings:

    The overall finding is that audit quality issues override auditor market power and that differentiation does not provide Big 4 firms market power against adverse regulatory action.

    The authors specifically find that:

    • Deloitte’s audit fee losses were concentrated in the pharmaceutical industry. However, the majority of client losses were not limited to one geographical area or industry.
    • In all cases observed, the results indicate that Deloitte’s leadership or specialty engagements suffered client loss risk odds that were not different from that of its non-leader or non-specialty engagements.
    • Evidence with respect to Deloitte-closest-competitor distance suggests that there was no difference in client loss risk across the local audit market areas.
    Category:
    Audit Quality & Quality Control, Auditor Selection and Auditor Changes, Standard Setting
    Sub-category:
    Impact of Firm & External Inspection Programs, Impact of PCAOB
  • Jennifer M Mueller-Phillips
    Investigating Inspection Risk: An Analysis of PCAOB...
    research summary posted April 19, 2017 by Jennifer M Mueller-Phillips, tagged 09.0 Auditor Judgment, 09.12 Impact of potential post-audit review - e.g., PCAOB, internal firm inspections, 11.0 Audit Quality and Quality Control, 11.11 Impact of Firm and External Inspection Programs 
    Title:
    Investigating Inspection Risk: An Analysis of PCAOB Inspections and Internal Quality Reviews
    Practical Implications:

    This paper complements and extends the limited extant research on inspection risk by clearly defining the construct and providing empirical evidence consistent with its existence and impact on auditors’ planning decisions. The authors contend that while auditors may perceive that PARs do not influence effort or fees, both PARs likely cause auditors, perhaps unconsciously, to increase effort and fees. 

    Citation:

    C. M. Stefaniak, R. W. Houston, and D. B. Brandon. 2017. Investigating Inspection Risk: An Analysis of PCAOB Inspections and Internal Quality Reviews. Auditing: A Journal of Practice and Theory 36 (1): 151 – 168.

    Keywords:
    inspection risk, audit quality, PCAOB inspections, and internal quality reviews
    Purpose of the Study:

    The authors report the results of an experiment that examines how auditor anticipation of the two primary external and internal post-audit reviews (PAR), specifically, U.S. Public Company Accounting Oversight Board (PCAOB) inspections or public accounting firms’ internal quality reviews (IQRs), affects auditors’ perceptions of overall engagement risk, as well as effort and pricing decisions. The authors define inspection risk as “the risk that an auditor or audit firm will suffer harm as a result of a PAR.” Although the current PAR regime has been in place for over ten years, there is little empirical evidence concerning whether, and to what extent, anticipating a PAR impacts auditor behavior, and whether the effects of anticipating a PCAOB inspection or IQR differ. IQRs also remain largely uninvestigated, despite researchers beginning to investigate external PCAOB reviews. 

    Design/Method/ Approach:

    To investigate how PAR salience affects auditors’ judgments and decisions, the authors conduct a 1 x 3 between-subjects experiment using a number of high-level auditors as participants. They manipulate PAR salience as PCAOB inspection salient, IQR salient, or no explicit expectation of a PAR. 

    Findings:
    • The authors find that PAR salience yields greater perceived overall engagement risk, even after controlling for traditional engagement risk-related factors, implying that auditors perceive inspection risk as incremental to these factors.
      • In addition, increased PAR salience results in greater audit effort and fees, consistent with an inspection risk component.
    • The authors find that both PARS yield higher fees, with the higher fees attributable only to greater effort, rather than an “inspection risk premium.”
    • PCAOB inspection results are more visible than IQRs, and partners perceive that PCAOB inspections can yield greater negative consequences for themselves and their firms; therefore, the authors find that PCAOB inspection salience involves larger increases in perceived overall engagement risk and audit effort than does IQR salience.
      • However, the authors do not find differences in audit fees between PCAOB and IQR salience. 
    Category:
    Audit Quality & Quality Control, Auditor Judgment
    Sub-category:
    Impact of Firm & External Inspection Programs, Impact of potential post-audit review (e.g. PCAOB - internal firm inspections)
  • Jennifer M Mueller-Phillips
    Do Big 4 Auditors Provide Higher Audit Quality after...
    research summary posted September 17, 2015 by Jennifer M Mueller-Phillips, tagged 11.0 Audit Quality and Quality Control, 11.07 Attempts to Measure Audit Quality, 11.08 Proxies for Audit Quality, 11.11 Impact of Firm and External Inspection Programs 
    Title:
    Do Big 4 Auditors Provide Higher Audit Quality after Controlling for the Endogenous Choice of Auditor?
    Practical Implications:

    The evidence presented in this paper is of interest to managers, audit committees, investors, creditors, and regulators. Managers and audit committees would like to know whether the Big 4 actually do provide higher quality audits. This information will help them choose an auditor. Given that Big 4 auditors earn a fee premium, managers and audit committees must decide whether the services they receive from the auditor are worth the premium. Investors and creditors will also be interested in the results, as this will help them assess the credibility of firms’ financial reports. Regulators are also interested in whether the Big 4 accounting firms actually provide higher quality audits.

    Citation:

    Eshleman, J. D., and G. Peng. 2014. Do Big 4 Auditors Provide Higher Audit Quality after Controlling for the Endogenous Choice of Auditor? Auditing: A Journal of Practice & Theory 33 (4): 197-219.

    Keywords:
    audit quality, audit quality proxies, Big 4 auditor, propensity-score matching
    Purpose of the Study:

    The purpose of this paper is to re-examine whether Big 4 auditors deliver higher audit quality after controlling for the endogenous choice of auditor.

    One of the earliest theories in the audit literature is that Big 4 auditors, due to their larger size and better training programs, provide higher audit quality than other auditors. The argument is that larger audit firms have more reputation to lose by sacrificing their independence on any given audit engagement. In addition, larger audit firms have more resources to invest in training programs, resulting in better trained auditors. To the extent that discretionary accruals capture opportunistic earnings management, this implies that Big 4 auditors tolerate less earnings management than other auditors. However, firms select their auditors and auditors decide if they will accept the firm as their client. Audit firms will tend to prefer less risky clients with higher earnings quality. In this study, the authors choose an audit quality proxy, which they believe better captures whether the client engaged in non-GAAP reporting. The proxy is the likelihood of a firm issuing an accounting restatement.

    Design/Method/ Approach:

    The authors use a regression model to test their hypotheses. The authors obtain financial statement data from the Compustat Fundamentals Annual file, and auditor and restatement data from Audit Analytics for the period 20002009. The first hypothesis is tested with a sample of 5,950 observations. The second hypothesis is tested with a sample of 3,248 observations.

    Findings:
    • Clients of non-Big 4 auditors are significantly more likely to subsequently issue an accounting restatement than are clients of the Big 4. This result holds after controlling for a set of innate firm characteristics known to affect the likelihood of issuing a restatement. This is consistent with non-Big 4 auditors allowing a higher frequency of material misstatements than Big 4 auditors.
    • In additional analyses, results show that clients of Big 4 auditors are significantly less likely to be sanctioned by the SEC for an Accounting and Auditing Enforcement Release (AAER) than are clients of other auditors.
    • The authors construct a matched sample of Mid-tier and small auditors. They find no evidence that Mid-tier auditors provide higher audit quality than the small audit firms.
    • The authors also construct a matched sample of Big 4 and small auditors. Clients of small auditors are significantly more likely to subsequently issue an accounting restatement than are clients of the Big 4.
    • Taken together, the evidence suggests a hierarchy of audit firms, with Big 4 auditors providing the highest audit quality, small auditors providing the lowest level of audit quality, and Mid-tier auditors providing audit quality in between the Big 4 and the small auditors.
    Category:
    Audit Quality & Quality Control
    Sub-category:
    Attempts to Measure Audit Quality, Impact of Firm & External Inspection Programs, Proxies for Audit Quality
  • Jennifer M Mueller-Phillips
    Investor Protection, Firm Informational Problems, Big N...
    research summary posted September 16, 2015 by Jennifer M Mueller-Phillips, tagged 11.0 Audit Quality and Quality Control, 11.11 Impact of Firm and External Inspection Programs, 15.0 International Matters 
    Title:
    Investor Protection, Firm Informational Problems, Big N Auditors, and Cost of Debt around the World.
    Practical Implications:

    This study shows that Big N auditors are more effective in reducing the cost of debt in countries with strong investor protection. In particular, the authors find that high-quality auditors are perceived by creditors as providing higher-quality audits in strong investor protection countries other than the U.S., including the U.K. and Canada. The study has implications for policy makers because it suggests that auditors (and, perhaps, auditing standards) may not be effective in weak investor regimes. High-quality auditors may be less effective in performing a governance role without the support of a strong investor protection regime. 

    Citation:

    Gul, F. A., G. S. Zhou, and X. K. Zhu. 2013. Investor Protection, Firm Informational Problems, Big N Auditors, and Cost of Debt around the World. Auditing: A Journal of Practice & Theory 32 (3): 1-30.

    Keywords:
    audit quality, cost of debt, information asymmetry, informational problems, investor problems
    Purpose of the Study:

    In this paper, the authors first confirm that auditor quality reduces the cost of debt across countries. Next, they examine (1) the joint effect of investor protection and auditor quality on the cost of debt across countries, and (2) whether informational quality affects this relationship. The authors investigate the question of whether, in an international setting, firms with more informational problems are more likely to benefit from high-quality auditors and/or strong investor protection than firms with fewer informational problems.

    The authors are motivated to examine these issues because of four factors.

    • First, although prior studies using U.S. data have documented a link between the choice of Big N auditors and lower cost of debt, these findings have focused on the U.S., where auditors are exposed to high levels of litigation risks. It is unclear whether the relationship holds in jurisdictions with low litigation risks.
    • Second, there are competing views of the relationship between the effectiveness of Big N auditors and countrywide governance regimes in international settings.
    • Third, prior international studies on the role of auditor quality have not recognized that firms with higher levels of informational problems may benefit more from auditor quality and/or stronger investor protection than do firms with lower levels of informational problems.
    • The final motivation for the study lies in the importance of debt in corporate financing for firms across countries.
    Design/Method/ Approach:

    The auditor and financial data are obtained from the Compustat Global Industrial and Commercial file. The data on analysts are obtained from the Institutional Brokers’ Estimate System (I/B/E/S). The investor protection data are extracted from LLSV and LLS. The other macroeconomic data are collected from the World Bank. There are 96,396 observations from 30 countries for the period from 1994 to 2006.

    Findings:
    • The results show that firms with Big N auditors are significantly and negatively associated with the cost of debt. 
    • Big N auditors play a role in reducing a firm’s cost of debt across all countries.
    • The results show that the relationship between Big N auditors and the cost of debt is stronger in stricter investor protection regimes.
    • The authors find that firms with higher informational problems benefit more from high-quality auditors in terms of lower cost of debt in stronger investor protection countries.
    • The results suggest that in weaker investor protection countries, creditors seem to price firms’ information asymmetry problems in the cost of debt, and Big N auditors do not seem to play an effective role in reducing debt-monitoring costs.
    Category:
    Audit Quality & Quality Control, International Matters
    Sub-category:
    Impact of Firm & External Inspection Programs
  • Jennifer M Mueller-Phillips
    The impact of anecdotal data in regulatory audit firm...
    research summary posted September 16, 2015 by Jennifer M Mueller-Phillips, tagged 11.0 Audit Quality and Quality Control, 11.10 Impact of Quality Reviewers, 11.11 Impact of Firm and External Inspection Programs 
    Title:
    The impact of anecdotal data in regulatory audit firm inspection reports.
    Practical Implications:

    This study should be of interest to audit regulators around the world currently employing or contemplating the employment of firm-specific reporting formats. A critical and consistent feature of firm-specific reporting is the presence of descriptions of deficiencies uncovered in the inspection process. This study serves to warn audit regulators that reporting lists of deficiencies, as in the manner currently employed by the PCAOB, can lead to misperceptions of audit firm quality. The study also serves to inform audit regulators of two decision aids that the authors found useful in counteracting such misperceptions.

    Citation:

    Wainberg, J. S., T. Kida, M. D. Piercey, and J. F. Smith. 2013. The impact of anecdotal data in regulatory audit firm inspection reports. Accounting, Organizations & Society 38 (8): 621-636.

    Keywords:
    audit firm inspection reports, audit firm quality, audit firms, audit quality
    Purpose of the Study:

    The financial scandals of the last decade have spurred the establishment of independent audit regulators in most countries possessing highly developed market-based economies. The primary goal of statutory auditor oversight has been to restore investor confidence in capital markets by promoting high quality audits of public companies. Inspections of audit firms along with annual public reporting on inspection findings are now considered routine in many jurisdictions. The form and content of these public reports can vary greatly as regulators across the globe struggle to strike a balance between their constituent’s desire for ever-greater disclosures and the confidentiality needs of audit firms in practice.

    A critical and pervasive component of firm-specific inspection reporting is the release of detailed lists of weaknesses, or deficiencies, uncovered by the regulatory inspection teams for individual audit firms. While such information is ostensibly meant to provide useful information for audit committees and other stakeholders, prior research in psychology indicates that this type of information can, in fact, lead to biased perceptions of auditor quality. As a result, the purpose of this study is to investigate whether the anecdotal information typically provided in firm-specific inspection reports can lead to misperceptions of audit firm quality and whether two decision aids can help to mitigate this problem.

    Design/Method/ Approach:

    The participants were 207 managers and other professionals attending a management training program. The participants included individuals from upper level management, middle level management, and others with significant professional experience. On average, participants had nine years of business experience. The instrument was administered online using Qualtrics research software. Participants were asked to assume the role of an audit committee member and to make a hiring decision between two audit firms that were being considered to perform the company’s year-end audit. The data was collected prior to 2013.

    Findings:

    The results indicate that the previous manner of reporting only anecdotal deficiencies by the PCAOB can lead to incorrect perceptions of audit firms. In addition, the authors find that the addition of statistical information as currently provided by the PCAOB is ineffective. That is, users continue to focus on anecdotal deficiencies in the presence of the presented statistical data. Finally, the authors find that participants are more likely to incorporate the implications of statistical data when a salience enhancement of the statistical data and a judgment orientation were introduced. These findings suggest that biases induced by the inclusion of anecdotal data in statutory audit firm inspection reports can be mitigated by incorporating these easily implemented decision aids.

    Category:
    Audit Quality & Quality Control
    Sub-category:
    Impact of Firm & External Inspection Programs, Impact of Quality Reviewers
  • Jennifer M Mueller-Phillips
    When the PCAOB Talks, Who Listens? Evidence from Stakeholder...
    research summary posted September 14, 2015 by Jennifer M Mueller-Phillips, tagged 01.0 Standard Setting, 01.06 Impact of PCAOB, 11.0 Audit Quality and Quality Control, 11.10 Impact of Quality Reviewers, 11.11 Impact of Firm and External Inspection Programs, 12.0 Accountants’ Reports and Reporting, 12.04 Investigations 
    Title:
    When the PCAOB Talks, Who Listens? Evidence from Stakeholder Reaction to GAAP-Deficient PCAOB Inspection Reports of Small Auditors.
    Practical Implications:

    The authors provide initial empirical evidence that Securities and Exchange Commission (SEC) registrants found GAAP-deficient PCAOB inspection reports to be a useful signal of audit quality for triennially inspected auditors. This evidence indicates that PCAOB inspection reports created heterogeneity in auditor brand name that did not previously exist. Also, this paper is the first to empirically link audit committee characteristics to PCAOB inspection report severity and auditor choice. The authors believe this is an increasingly relevant finding as audit committees have been granted much greater auditor dismissal and hiring authority due to SOX. This study indicates that a PCAOB inspection report may serve as an audit quality signal for auditors of broker-dealers, who were previously exempt from the inspection process. Such a finding has current relevance given the PCAOB has recently sought to expand the inspection program to foreign auditors, such as those based in China whose clients are cross-listed on U.S. security exchanges or are listed due to a reverse merger.

    Citation:

    Abbott, L. J., K. A. Gunny, and T. C. Zhang. 2013. When the PCAOB Talks, Who Listens? Evidence from Stakeholder Reaction to GAAP-Deficient PCAOB Inspection Reports of Small Auditors. Auditing: A Journal of Practice & Theory 32 (2): 1-31.

    Keywords:
    audit quality signals, PCAOB inspection process
    Purpose of the Study:

    The PCAOB is a private regulatory agency, independent of the accounting industry. Congress bestowed upon the PCAOB the ability to inspect the work of all accounting firms that audit publicly traded companies. Inspections are conducted annually for Big 4 and national auditors with greater than 100 publicly held registrants (annually inspected auditors). The inspection process is conducted every three years for auditors with fewer than 100 publicly held clients (triennially inspected auditors). The authors classify inspection reports into three categories according to severity. In a clean report, the PCAOB finds no audit deficiencies. In a GAAS-deficient report, the PCAOB notes that the financial statements audited by the auditor are free of material error, but that the audit process did not fully follow GAAS-recommended audit procedures. In a GAAP-deficient report, the PCAOB states that the auditor “failed to identify a material departure from GAAP” or that the audited company “restated certain of its financial statements to make changes relating to” matters/audit deficiencies uncovered by the PCAOB inspection.

    The current study examines the PCAOB in the context of whether GAAP-deficient PCAOB inspection reports of triennially inspected auditors are enough of a deleterious audit-quality signal to prompt dismissals of these auditors. This study then identifies the successor triennially inspected auditor and uses the three-tiered categorization scheme to denote an increase in auditor quality. Specifically, the authors create a dichotomous dismissal-based dependent variable coded “1” in cases where the dismissal results in a higher-quality triennially inspected successor auditor, and “0” otherwise.

    Design/Method/ Approach:

    The authors obtain all inspection reports from the PCAOB website from January 21, 2005 to December 31, 2007. A total of 521 triennially inspected nonforeign accounting firm PCAOB inspection reports were filed, of which 256 (49.1 percent) were clean, and 61 (11.7 percent) were GAAP-deficient. The 54 GAAP-deficient, triennially inspected auditors are included in the sample. The 54 GAAP-deficient auditors report 525 publicly held clients per their PCAOB inspection reports.

    Findings:
    • The authors find that GAAP-deficient, triennially inspected auditors are more likely to be dismissed by their clients and are overwhelmingly replaced by a triennially inspected successor that has not received a GAAP-deficient inspection report.
    • They also document that the dismissal rate for the clean PCAOB inspection report sample is 17.9 percent, while the dismissal rate for the GAAP-deficient sample is a significantly higher 44.3 percent.
    • The authors find that greater agency conflicts, the presence of an independent and expert audit committee, and blockholdings magnify the likelihood of dismissing a GAAP-deficient, triennially inspected auditor in favor of a triennially inspected auditor that is not GAAP-deficient.
    • Interestingly, the authors find that opinion shopping or fee shopping does not differentially impact the likelihood of dismissing a GAAP-deficient, triennially inspected auditor in favor of a triennially inspected auditor that is not GAAP-deficient.
    • The authors link the use of PCAOB inspection reports to an agency-based demand for audit quality signals.
    Category:
    Accountants' Reporting, Audit Quality & Quality Control, Standard Setting
    Sub-category:
    Impact of Firm & External Inspection Programs, Impact of PCAOB, Impact of Quality Reviewers, Investigations
  • Jennifer M Mueller-Phillips
    PCAOB Quality Control Inspection Reports and Auditor...
    research summary posted February 15, 2015 by Jennifer M Mueller-Phillips, tagged 01.0 Standard Setting, 01.06 Impact of PCAOB, 11.0 Audit Quality and Quality Control, 11.11 Impact of Firm and External Inspection Programs 
    Title:
    PCAOB Quality Control Inspection Reports and Auditor Reputation
    Practical Implications:

    The results of this study are important in considering what should be produced from PCAOB inspections of audit firms. Evidence indicates that clients use the information provided by Part II of the PCAOB inspection reports to choose a high quality audit firm. Perhaps producing a quality control report with every PCAOB inspection report would be helpful to clients in analyzing the audit firm and potentially improving overall audit quality.

    For further information on this study, please contact Albert L. Nagy.

    Citation:

    Nagy, Albert L. 2014. PCAOB Quality Control Inspection Reports and Auditor Reputation. Auditing: A Journal of Practice & Theory 33 (3): 87-104.

    Keywords:
    audit quality signals, PCAOB inspections, quality controls
    Purpose of the Study:

    This study focuses on the informational value of the quality control criticisms disclosed in Part II of PCAOB inspection reports. Part II of the report becomes public only if a firm fails to satisfactorily remediate the quality control deficiencies within a 12-month period. This study examines the change in audit firms' market share following the public disclosure of Part II. The results show that audit firms lose a significant amount of market share following the public disclosure of quality control criticisms, and suggest such a disclosure provides a credible signal of auditor quality to audit clients.

    Design/Method/ Approach:

    Firms analyzed were United States based, non-dark audit firms included in the Audit Analytics database from 2007 to 2012. All firms were inspected by the PCAOB and reports were posted on the PCAOB website. The market share changes for the quality control (QC) report release were measured for the year immediately following the public disclosure of the QC report. The non-QC report observations’ market changes were measured for the calendar years of the sample period.  The sampled observations were used to estimate an OLS regression model to determine whether QC reports have an effect on changes of audit firms’ market share.  

    Findings:

    The regression results of this study show that audit firms associated with publicly disclosed QC reports lose a greater amount of market share in the subsequent year than those firms not associated with a QC report. These results suggest that audit clients associate QC reports as a credible signal of low audit quality and, thus, are less likely to retain and hire audit firms involved with such a report. 

    Category:
    Audit Quality & Quality Control, Standard Setting
    Sub-category:
    Impact of Firm & External Inspection Programs, Impact of PCAOB
  • Jennifer M Mueller-Phillips
    When the PCAOB Talks, Who Listens? Evidence from Stakeholder...
    research summary posted June 22, 2014 by Jennifer M Mueller-Phillips, tagged 03.0 Auditor Selection and Auditor Changes, 03.02 Dismissal Decisions – impact of restatements, disagreements, fees, mergers, 11.0 Audit Quality and Quality Control, 11.07 Attempts to Measure Audit Quality, 11.11 Impact of Firm and External Inspection Programs 
    Title:
    When the PCAOB Talks, Who Listens? Evidence from Stakeholder Reaction to GAAP-Deficient PCAOB Inspection Reports of Small Auditors.
    Practical Implications:

    The objective of this study is to determine whether PCAOB inspection reports of triennially inspected auditors are used as audit quality signals. The study was based upon the premise that the reports may serve as a publicly-available proxy of perceived audit quality. Clients were found to react differently to the PCAOB inspection reports contingent upon their severity with GAAP-deficient reports are more likely to trigger an auditor dismissal than a clean or GAAS-deficient report. The results suggest that clients of non-Big 4/non-national auditors are using certain PCAOB inspection reports as a publicly-available signal of audit quality and not as a means of procuring more favorable audit reporting or audit fees. 

    Citation:

    Abbott, L., K. A. Gunny, and T. C. Zhang. 2013. When the PCAOB Talks, Who Listens? Evidence from Stakeholder Reaction to GAAP-Deficient PCAOB Inspection Reports of Small Auditors. Auditing 32 (2).

    Keywords:
    audit quality signals, PCAOB inspection process
    Purpose of the Study:

    The PCAOB conducts inspections of registered public accounting firms that provide audits for publicly traded companies. The results of the inspection process are summarized in publicly available reports at the PCAOB website. Using these reports, this study categorizes the inspection reports into three levels of increasing severity: clean, GAAS-deficient, and GAAP-deficient. GAAP-deficient PCAOB inspection reports are examined for potential use as perceived audit quality signals for the clients of GAAP-deficient auditors that are inspected on a triennial basis by the PCAOB. The investigation is predicated on the notion that audit quality is generally not directly observable. Thus the clients of these auditors may seek to signal their desire for audit quality by dismissing their GAAP-deficient auditors.

    Design/Method/ Approach:

    The authors obtained all inspection reports from the PCAOB from January 21, 2005, to December 31, 2007. The sample chosen included 54 GAAP-deficient, triennially inspected auditors with complete data for 379 of the auditors’ reported clients. This sample was used to test the following hypotheses:

    • H1: There is a positive relation between the receipt of a GAAP-deficient PCAOB inspection report and the likelihood of dismissing a triennially inspected auditor in favor of a non-GAAP-deficient auditor.
    • H2: Greater agency conflict values magnify the positive relation between the receipt of GAAP-deficient PCAOB inspection reports and the likelihood of dismissing a triennially inspected auditor in favor of a non-GAAP-deficient, triennially inspected auditor.  
    • H3: Independent and expert audit committees magnify the positive relation between the receipt of a GAAP-deficient PCAOB inspection report and the likelihood of dismissing a triennially inspected auditor in favor of a non-GAAP-deficient, triennially inspected auditor. 
    • H4: Outside blockholdings magnify the positive relation between the receipt of a GAAP-deficient PCAOB inspection report and the likelihood of dismissing a triennially inspected auditor in favor of a non-GAAP-deficient, triennially inspected auditor.
    • H5: Securities issuance magnify the positive relation between the receipt of GAAP-deficient PCAOB inspection report and the likelihood of dismissing a triennially inspected auditor in favor of a non-GAAP-deficient, triennially inspected auditor.
    Findings:
    • Dismissal rate is high for GAAP-deficient auditors
    • A majority of the clients also received a going-concern modification
    • The subsequent auditor is virtually always a triennially inspected auditor that is not GAAP-deficient
    • Agency conflict and audit committee effectiveness are helpful in predicting which GAAP-deficient auditors are more likely to be dismissed.
    Category:
    Audit Quality & Quality Control, Auditor Selection and Auditor Changes
    Sub-category:
    Attempts to Measure Audit Quality, Dismissal Decisions – impact of restatements - disagreements - fees - mergers etc, Impact of Firm & External Inspection Programs
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  • Jennifer M Mueller-Phillips
    Audit Partner Perceptions of Post-Audit Review Mechanisms:...
    research summary posted April 28, 2014 by Jennifer M Mueller-Phillips, tagged 09.0 Auditor Judgment, 09.12 Impact of potential post-audit review - e.g., PCAOB, internal firm inspections, 11.0 Audit Quality and Quality Control, 11.11 Impact of Firm and External Inspection Programs 
    Title:
    Audit Partner Perceptions of Post-Audit Review Mechanisms: An Examination of Internal Quality Reviews and PCAOB Inspections
    Practical Implications:

    The results of this study make several contributions. It is beneficial to researchers interested in furthering our understanding of the effects and effectiveness of IQRs and PCAOB inspections, as well as to practitioners and regulators. While many opportunities for further research exist, results indicating a large portion of partners try to predict the engagements that will be selected for either PAR can serve as a foundation to investigate further the effects of PAR salience on audit planning and reporting decisions.

    For more information on this study, please contact Richard W. Houston
     

    Citation:

    Houston, R. W., and C. M. Stefaniak. 2013. Audit Partner Perceptions of Post-Audit Review Mechanisms: An Examination of Internal Quality Reviews and PCAOB Inspections. Accounting Horizons 27 (1).

    Keywords:
    audit quality; internal quality reviews; PCAOB inspections
    Purpose of the Study:

    Tis study attempts to examine audit partner perceptions of the two primary post-audit review (PAR) mechanisms intended to help maintain and improve the quality of public company audits (PCAOB inspections and firms’ internal quality reviews [IQRs]). Using a survey of audit partners, the authors investigate and compare partners’ perceptions of each review’s predictability, conduct, inspector qualifications and behavior, and effects. This study extends upon prior research by reporting perceptions of experienced partners from large firms, providing detailed evidence concerning IQRs, and examining partners’ perceptions of both PCAOB inspections and IQRs. Finally, the authors are also the first to study PAR perceptions to consider the effects of partner experience, complementing research suggesting that partner experience affects audit performance. 
     
     

    Design/Method/ Approach:

    To learn more about PCAOB inspections and IQRs, the authors investigate and compare partners’ perceptions of each PAR. The research questions concern perceptions of each PAR’s (1) predictability, (2) conduct, (3) inspector qualifications and behavior, and (4) effects, as well as whether results differ based on partner experience. To examine the research questions, the authors distributed a survey to large-firm audit partners. Survey participants were obtained via a mailing list obtained through the AICPA. The list included U.S. professionals who were (1) partners, shareholders, or owners; (2) audit focused; (3) employed by U.S. public accounting firms with over 100 employees. The packets were mailed to 1,400 auditors who met the above criteria. 125 partners responded resulting in approximately a 9 percent response rate.

    Findings:
    • Partners can or try to predict the engagements that will be selected for either an IQR or PCAOB inspections.
    • While partner believe they can more easily predict the specific year of an IQR, no difference was found in their abilities to select which specific engagements will be selected for IQRs or PCAOB inspections.
    • Partners perceive both PARs to be very detailed.
    • Partners believe that IQRs are more likely to cover all audit areas and that IQR reviewers have a better understanding of their firms’ audit methodologies than do PCAOB inspectors.
    • Partners believe that both IQRs and PCAOB inspections affect their professional reputation.
    • IQRs provide more timely feedback than do PCAOB inspections, and partners perceive IQR feedback to be more beneficial.
       
    Category:
    Audit Quality & Quality Control, Auditor Judgment
    Sub-category:
    Impact of Firm & External Inspection Programs, Impact of potential post-audit review (e.g. PCAOB - internal firm inspections)
  • Jennifer M Mueller-Phillips
    PCAOB Inspections and Large Accounting Firms
    research summary posted September 17, 2013 by Jennifer M Mueller-Phillips, tagged 01.0 Standard Setting, 01.06 Impact of PCAOB, 11.0 Audit Quality and Quality Control, 11.11 Impact of Firm and External Inspection Programs 
    Title:
    PCAOB Inspections and Large Accounting Firms
    Practical Implications:

    Auditors should be interested in the results of this paper because the trends provide information both on emerging issues in accounting, as well as areas that are likely to be flagged by the PCAOB for inspection. For example, issues related to fair value measurement are growing as a percentage of overall issues. This may cause audit firms to examine their fair value accounting practices and training.

    For more information on this study, please contact Bryan K. Church.
     

    Citation:

    Church, B. K., and Shefchik, L. B. 2012. PCAOB Inspections and Large Accounting Firms. Accounting Horizons 26 (1): 43-63.

    Keywords:
    PCAOB inspections; inspection reports; regulation; audit quality.
    Purpose of the Study:

    This article gathers data from PCAOB inspection results and analyzes that data to determine trends in the auditing field. It presents these trends in a way that should be of interest to regulators, academics, practicing accountants, and users of the PCAOB's inspection reports.

    Design/Method/ Approach:

    Using PCAOB inspection reports from 2005 through 2010, the results of each inspection report is manually coded into different categories. Then, using linear regression, the article determines trends of interest in the audit engagements of the big four accounting firms as well as the four other annually inspected accounting firms.

    Findings:

    The article finds a number of trends, but some of the more important ones are:

    • Issues related to fair value measurement are growing as a percentage of overall issues
    • Total issues are declining
    • Revenue recognition is the most common problem area
       
    Category:
    Audit Quality & Quality Control, Standard Setting
    Sub-category:
    Impact of Firm & External Inspection Programs, Impact of PCAOB

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